Signs of an economic recovery in the euro zone have underpinned demand for Italian and Spanish bonds in recent weeks. But Germany, the common currency area’s largest economy, is seeing its borrowing costs leap to an 18-month high as faster economic growth curbs the need for the European Central Bank to provide additional stimulus.

Germany, the only euro-zone country with a scheduled bond issuance this week, sold €3.231 billion ($4.29 billion) of the 1.50% May 2023-dated Bund at an average yield of 1.80%, the Bundesbank said. This yield isn’t only above the 1.57% seen at the previous auction of the same Bund a month ago, but it is also represents the highest borrowing cost Germany has paid at a 10-year auction since late February 2012.

The ECB’s accommodative policy has anchored yields on shorter-dated bonds at relatively low levels. However, the U.S. Federal Reserve’s plan to reduce the size of its bond-buying stimulus program, which has supported global debt markets for several years, has put an upward pressure on global yields in general, while improving economic indicators have lifted yields on longer-dated core government bond yields. German 10-year yields have risen from around 1.17% at the beginning of May.

Demand at the auction was sluggish, but Jens Peter Sorensen, chief analyst at Danske Markets still expects demand for Bunds to continue to be solid despite the higher yield level and the performance of the periphery.

In addition, Lyn Graham-Taylor, a strategist at Rabobank International, said that such a weak result had largely been expected following the recent brightening in euro-zone economic data, putting pressure on the German yield curve.

A fresh boost to the German economy prior to the auction came from the release of the country’s second-quarter gross domestic product data Wednesday which grew 0.7% from the preceding period, in line with economists’ forecasts. That equates to annualized growth of 2.9%. By comparison, the U.S. economy expanded by an annualized 1.7% in the same period, while Japan’s growth rate eased to 2.6%.

An improving outlook of the German economy, a locomotive for the rest of Europe, has also fueled growth elsewhere in the single currency area, pulling the bloc out of recession after six quarters of contraction.

Despite the data, analysts point out that the region’s economy isn’t firing on all cylinders and expectations of a change to ECB’s so far accommodative monetary policy may be premature.
Indeed, Mr. Draghi recently said that while there are tentative signs of a recovery in Europe, expectations of rate hikes in money markets are “unwarranted.” The ECB recently also gave a forward guidance, pledging to keep its key policy rate at current or lower levels on a longer horizon.

Despite the caution, analysts are relieved that the euro-zone economy seems to be getting back on its feet.

“Of course, the euro zone still has a long way to go before positive growth numbers can honestly be called a recovery but relief should stand above scepticism, at least for one day,” said Carsten Brzeski, economist at ING Bank.

While an improving outlook for economically weaker countries, such as Spain or Italy, boosts appetite for their debt and for riskier assets in general, at the same time it lowers the appeal of safe haven German Bunds. Nonetheless, many investors find German debt attractive at the current higher yields after having to do with record low levels previously.

Germany reopened this 10-year Bund for the last time at this auction. At the next 10-year debt auction on Sept. 11 it will launch a new series with maturity in August 2023. The Bund series on offer at this auction was a reopened issue.